Controlling the Flow: The 11th Annual Cost Management Survey

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The good news for cost-conscious companies is that revenues are rising. That's also the bad news.

According to our 11th annual Cost Management Survey, a joint effort of CFO magazine and Stamford, Connecticut-based Archstone Consulting LLC, revenue growth outpaced cost growth in 2003. In fact, revenues at the 1,091 companies surveyed (with sales of at least $1 billion) spiked by 9.3 percent, compared with just a 1.4 percent increase in 2002. But companies seem to have maintained the cost discipline they honed during the past few years.

The proof is in their median cost management index, or CMI (cost of goods sold plus their selling, general, and administrative expenses [SG&A] divided by operating revenue), which dropped by 40 basis points, to 84 percent. "Companies have been able to adjust their cost relative to revenue in the face of some significant head winds," says Mike Sullivan, a principal at Archstone. "They have had to face major increases in the cost of oil and steel, as well as health care, without any real pricing power to combat them."

According to Sullivan, companies have shifted from "flavor-of-the-month" cost cutting to built-in cost reduction as part of a continuous process like supply-chain management. CFOs have introduced flexibility into their cost initiatives so they can "leverage not just one [cost-control] lever but a portfolio approach," he says, which enables them to manage cost cutting like investment. Most important, they have been more cautious about overinvesting.

Channeling the Savings

Take Lowe's Cos. The home improvement retailer invested $9 billion in expanding from 624 stores in 2000 to 952 in 2003. Yet in addition to reducing its CMI by 312 basis points during that time and growing revenues by 18 percent, the Mooresville, North Carolina-based company has also improved its return on invested capital by 281 basis points.

"Everything we do is in the context of our growth plans," says CFO Robert F. Hull, "and that includes cost containment." For example, the company has instituted a "line-review process" to cut the cost of every product it sells — largely by offshore outsourcing. The company's cost-reduction committee, chaired by Hull, leverages procurement costs throughout the organization. In the engineering and construction group, for example, the committee took a detailed look at construction supplies for the 140 stores that were opened in 2004 and the 150 planned for this year. "That evaluation allowed them to cut construction costs by $3 per square foot in the new stores," says Hull, through a combination of building-design modifications and the leveraging of existing suppliers.

At Deluxe Corp., cost-cutting versus investment decisions are made with an eye toward an evolving market. "We have not had a stated cost-reduction goal," says CFO Doug Treff. "Instead, we've had goals around maintaining and improving our profitability, particularly since our core product — checks — is declining." Between 2000 and 2003, he says, "we were able to improve our operating margins from 22.1 percent to 25.7 percent of sales even though [revenues] were down 2 percent." The Shoreview, Minnesota-based company reduced its CMI by 630 basis points from 2000 to 2003 — the best in the printing and publishing industry.

Much of the savings derive from three tactics: consolidating printing plants from more than 60 facilities 10 years ago to 11 today; outsourcing network operations, some mail-order functions, and some accounting-transaction processes; and applying what Treff calls "lean thinking" — the reduction of unnecessary steps — to everything from check manufacturing to order management. The savings allowed Deluxe to acquire Groton, Massachusetts-based forms supplier New England Business Service Inc. for $643 million last June, which will help diversify the company.

Qualcomm Inc.'s main business, wireless technology, is far from declining, but the San Diego-based company did exit several businesses over the past several years. Instead of cutting jobs at those businesses, "we made a decision to redeploy the [people]," says CFO Bill Keitel. The plan, he says, was "to gain efficiencies and then to hold the line tight on growth." After all, "productivity of employees is what will make a difference for us down the road." Those gains are already apparent: Qualcomm reduced its CMI by 759 basis points from 2000 to 2003, while revenues grew 7 percent.

Keitel is not yet content with the gains on either the cost or the revenue side, however. "I'm pleased with what we have achieved," he says, "but I think you always have to be [somewhat] pessimistic. There are just too many unknowns."